A Brief Description of the United States Laws and Regulations Governing Blockchain Technology, Cryptocurrencies and Token Sales

After reading the below feel free to contact us to discuss your blockchain or smart contract business plans to ensure your compliance with the law.

What Is Blockchain?

When you put money in a checking account and write a check to pay a bill, you depend on the bank to send the funds. You trust the bank to release the right amount to the right party. The bank plays a central role, and it is the trusted third party.

Distributed ledger technology is a decentralized system for proof of anything. It is used to prove existence and ownership of things of value. When combined with a smart contract – one that is written in computer code and set to execute upon a specific event – the digital ledger can become a self-operated system that does not depend on institutions like banks to guarantee performance.

– Ethereum

Usages run on Ethereum or a similar private infrastructure. The wide variety of applications for digital ledgers need a structure or platform. Ethereum is an open-source structure that houses distributed ledger applications or usages. Usages are applications or programs that have a particular purpose such as a voting system or proof of ownership. The usages can be public with open access, or they can require permission or private access.

– Blockchain Technology

The technology uses a network of computers (nodes) and responsible operators to receive information. The information goes to each computer at the same time, and they each send an acknowledgment of the exact copy they received. When all agree that they have the same information, they each record it on a ledger or page. Once recorded, it becomes a “block,” and no operator can make a change unless all agree. A distributed ledger used in this way replaces a trusted third party as the official record of a thing, event, transaction, or any information someone wishes to record and keep.

The decentralized, blind system ensures accuracy, precision, and trustworthiness because no one person or actor can make changes. Once it’s mined, no one can change a page without undoing an entire series of pages or blocks.

– Block “Mining”

Once the nodes fill the ledger page to capacity, then it must be closed. The standard procedure is to issue a challenge problem, a mathematical equation that must be solved. The first operator to solve it gets the right to close or mine the page. In the case of Ethereum, the miner gets a fee or an amount of Ether as the reward. The miner closes the block by a process called proof-of-work in Bitcoin and some other tokens, and it is called proof-of-stake in other newer coins. The closed page is a block, and together the system is a chain of connected blocks.

What Are the Laws Governing Blockchain Technology?

The laws that govern the digital ledger technology depend upon its usage. The use of a distributed ledger for medical records would require compliance with HIPAA rules for patient record confidentiality. Every transaction may be suspicious for criminal activity, and the anonymous nature of ICO token sales appeals to buyers that wish to remain anonymous. International criminal compliance rules apply to all transactions.

State laws can enable or block the use of digital ledgers in certain activities (See State laws on Blockchain, Cryptocurrency and ICOs below). The trend among states is to allow the distributed ledger technology, and it has grown in application outside of currency.

What Are the Laws Governing Cryptocurrency?

Under U.S. law, cryptocurrencies do not have the status of legal tender, but the SEC deemed them as fair and lawful. They fall outside of rules governing currency, and some may qualify as commodities or securities. To date, the SEC has designated that Bitcoin and Ether are not securities.

– The Securities and Exchange Commission

The SEC has undertaken rigorous enforcement against some ICOs and the tokens the promoters issued on the question of whether they violated the securities registration and disclosure laws.

– The Consumer Futures Trading Commission

The CFTC designated Bitcoin as a commodity, but it approaches cryptocurrencies on a case-by-case basis looking at the circumstances of their issuance and the assets, if any, that back them.

– Internal Revenue Service

The IRS treats cryptocurrencies according to their use. If used for payment, they get tax treatment as if money. If used as an asset held for gain, they get similar tax treatment to inventory with reportable gains and losses.

– Treasury

The Department of the Treasury enforces the FinCEN rules to combat terrorism, money laundering, and financial crime. The Treasury does not recognize cryptocurrency as legal tender in the U.S.

What Are the Laws Governing Token Sales?

Initial Coin Offerings are lawful in the U.S., but most must meet applicable federal and state regulations. Some regulations are specific, and they include anti-money laundering and certification of funds (the ‘know your customer’ rule). The SEC prohibits celebrity endorsement of token unless the offer discloses the endorsement fees if any.

The current SEC posture on ICOs is that they may be securities, and it is thus required to register and present an approved prospectus to investors. The test is whether the ICO presents itself as an investment opportunity to investors. The Howey Test is the current guideline for determining if an ICO is a security that must meet formal registration standards or a non-security that has few rules to follow.

Tokens that qualify as an investment opportunity or securities under Regulation S must meet formal requirements or may be subject to seizure and enforcement. Tokens tend to avoid securities classification if they are purely a currency, or if the sums invested are donations to a non-profit initiative, or if the tokens are intended for primarily consumptive purposes and sold as a prepayment for commercial or consumer goods or services.

What Are the State Laws on Block Chain, Cryptocurrency and ICOs?

State rules and policies can affect the ability to use blockchain, trade with cryptocurrency and issue new tokens. Nevada was a pioneer in enacting laws that protect blockchain. Delaware may soon accept blockchain forms for registrations, Arizona enforces Smart contracts and Vermont courts accept blockchain as evidence.

State policies on ICOs vary widely in the U.S.; those that oppose the currency add burdens such as security deposits of up to the full amount of the issue. Some states do not regulate offerings at all, and they might only take action against them in the course of complaints.

The significant trend among states is to create and then enact legislation to regulate cryptocurrency businesses that use blockchain. The Commission on Uniform State Laws has a model cryptocurrency statute under review, and a model statute could encourage support for distributed ledger technology and more consistent regulation at the state level.

On May 21, 2018, the North American Securities Administrators Association (NASAA) announced one of the largest coordinated series of enforcement actions by state and provincial securities regulators in the United States and Canada to crack down on fraudulent Initial Coin Offerings (ICOs), cryptocurrency-related investment products and those behind them.

“NASAA members from more than 40 jurisdictions throughout North America participated in “Operation Cryptosweep,” which to date has resulted in nearly 70 inquiries and investigations and 35 pending or completed enforcement actions related to ICOs or cryptocurrencies since the beginning of May. NASAA members are conducting additional investigations into potentially fraudulent conduct that may result in additional enforcement actions. These actions are in addition to more than a dozen enforcement actions previously undertaken by NASAA members regarding these types of products. Many NASAA members also are conducting public outreach initiatives to warn investors in their jurisdictions of the risks associated with ICOs and cryptocurrencies.” See here.

Feel free to contact us to discuss your blockchain or smart contract business plans to ensure that you are in compliance with the law.